EOQ FORMULA: IS IT VALID UNDER INFLATIONARY CONDITIONS?

ABSTRACT The classical analysis of the economic order quantity (EOQ) problem ignores the effect of inflation. When a firm's cost factors are expected to rise at an annual rate of 10 percent or more, what adjustments in order quantities should the firm make to control its lot‐size inventory (or cycle stock)? Using a model that includes both inflationary trends and time discounting, it is concluded that inflation brings no incentive either to increase or to decrease order quantities. In addition, order quantities can be computed using the classical EOQ formula under inflationary conditions, provided that the cost of capital invested in inventory is interpreted as an inflation‐free cost. This interpretation implies that changes in the inflation rate should not affect the cost of capital that is utilized in the EOQ formula for determining order quantities.